Garo Toomajanian - IR Tom Mitchell - CEO and Chairman TS Ng - CFO.

Troy Jensen - Piper Jaffray Patrick Newton - Stifel..

Good day, ladies and gentlemen, and welcome to the Fabrinet's Financial Results Conference Call for the First Quarter of Fiscal 2017. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions on how to participate will be given at that time.

As a reminder, today's conference is being recorded. I would now like to turn the call over to your host, Garo Toomajanian, Investor Relations..

Thank you, operator, and good afternoon everyone. Thank you for joining us on today's conference call to discuss Fabrinet's financial and operating results for the first quarter of fiscal 2017 ended September 30, 2016.

With me on the call today are Tom Mitchell, Chief Executive Officer and Chairman of the Board of Fabrinet; and TS Ng, Fabrinet's Chief Financial Officer. This call is being webcast and a replay will be available on the investors section of our website located at investor.fabrinet.com.

Please refer to our website for important information, including our earnings press release, including our GAAP to non-GAAP reconciliation. I would like to remind you that today's discussion will contain forward-looking statements about the future financial performance of the company.

Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from management's current expectations.

These statements reflects our opinions only as of the date of this presentation and we undertake no obligation to revise them in light of new information or future events, except as required by law.

For a description of the Risk Factors that may affect our results, please refer to our recent SEC filings in particular, the section captioned Risk Factors in our Form 10-K filed on August 17, 2016. We will begin the call with remarks from Tom and TS, followed by time for questions.

I would now like to turn the call over to Fabrinet's CEO and Chairman, Tom Mitchell.

Tom?.

Thank you Garo and good afternoon everyone. Fiscal 2017 is off to a strong start, with first quarter revenue up more than 50% from a year ago. We are benefitting from positive industry trends and growing demand for our manufacturing capabilities and expertise.

In the first quarter both new and existing customers ramped programs orientated toward newer technology. We believe that current growth cycle in the optical market will continue to gain traction in fiscal 2017 driving further demand.

As a result of this anticipated growth, we are excited to have opened our new manufacturing campus in Thailand, significantly adding to our capacity and supporting our future growth. We are currently in the process of installing manufacturing lines that we expect to be operational in the March quarter.

I will now turn the call over to TS, for more details on the quarter and our outlook..

Thank you, Tom, and good afternoon everyone. I would like to provide you with more details on our performance by end market and our financial results. Total revenue in the first quarter was $332 million, an increase of 53% from a year ago and above the high-end of our guidance range.

Non-GAAP earnings were $0.80 per share and were also above the high-end of guidance, due primarily to our revenue upside.

As I review our result for the first quarter, keep in mind that in addition to strong market dynamics we also benefited from an extra week in the first quarter of fiscal 2017 as compared to a 13 week quarter in the first quarter of fiscal 2016.

Adjusting for the impact of the additional week, revenue would have been approximately $308 million, an increase of 42% from a year-ago. Also we completed our acquisition of Exception EMS with two weeks remaining in the quarter and our results include a less than $1 million contribution from Exception to non-optical revenue.

Exception did not materially impact non-GAAP earnings per share. In the first quarter, the optical market again led our growth as we saw growing demand especially for advanced technologies.

Revenue from new business or new program that we started tracking in quarter one of fiscal 2014, represent 30% of revenue in the first quarter compared to 23% a year-ago.

Within revenue, optical communication represented 77% of our total revenue, during the first quarter consistent with the prior quarter, as optical revenues of $256.8 million increased 66% from year-ago. Non-optical revenues of $25.2 million also saw increasing growth compared to recent quarter at 23% year-on-year.

As I mentioned non-optical revenue include less than $1 million in revenue from Exception EMS with organic growth that was above 20% even without the contribution from Exception. Within optical, the revenue split was 65% from telecom application and 35% from datacom application.

Both telecom and datacom growth were exceptionally strong with telecom growth of 85% and datacom growth of 40%. Note that, we have recently shifted the allocations of certain customer revenue from datacom to telecom to better represent how we believe our customer products are being deployed in the field.

We have posted a supplement with the revised telecom, datacom mix for fiscal year 2016 on our Investor Relation website. Note that we may make future revision in how we capitalize certain revenue in the future to better reflect changes in end customer applications.

By technologies, 100-gig solutions continue to see very rapid adoption with revenue from 100-gig component and module increasing 130% from year-ago to approximately $133 million or 52% of optical revenue.

Revenue from 10-gig solution remained stable in recent quarter and represented 10% of optical revenue while 40-gig not unexpectedly continued a trend of declining revenue.

Within advanced technologies, Silicon photonic modules continued to see a very strong growth with revenue that grew 159% from a year ago to over $67 million or 26% of optical revenue. We also started to ramp QSFP28 module for handfuls of customers and expect the volume will continue to grow in fiscal year 2017.

Turning to our non-optical communication business, revenues of $75.2 million from lasers, sensors and other market represented 23% of total revenue in the quarter. We were pleased to see laser revenue reach a quarterly record of $38 million comprising 51% of non-optical revenue in the quarter.

Automotive product grew 11% from a year ago and represented 28% of non-optical revenue. Fabrinet West, our new product introduction facility in Santa Clara continues to ramp. With three manufacturing line now up and running we are well on our way to reaching our target of revenue that approaches $10 million in the December quarter.

Our acquisition of exceptional EMS diversified our new product introduction business and will continue to non-optical revenue as we look ahead. Our strategy at Exceptional will be to duplicate the success we have seen at our Fabrinet West NPS facility while diversifying our target market to address new opportunity.

Additionally we have completed construction of the first building as our new campus in Chonburi Province, Thailand. This 500,000 square foot facility increases our total manufacturing footprint by nearly 50%, which will enable us to continue our trajectory of growth for a number of years.

We continue to expect a small amount of revenue from Chonburi in the March quarter with revenue increasing in the quarter's that follow. Now turning to the details of our P&L, a reconciliation on GAAP to non-GAAP measures is included in our press release.

Non-GAAP gross margin in the first quarter was 12.2% consistent with the first quarter of fiscal 2016.

As anticipated, gross margin declined from the fourth quarters of 2016 due to annual maintenance increment and inclusions of manufacturing cost also [indiscernible] that with Fabrinet West which are now fully represented in cost of revenue rather than in operating expenses, and has been the case in fiscal 2016.

These start-up cost in cost of revenue resulted in a small drag on gross margins in the first quarter and we expect the headwind to become a tailwind as Fabrinet West becomes profitable in the coming quarters. For the second quarter we expect non-GAAP gross margin to increase slightly over the first quarter as we benefit from increased scale.

Non-GAAP operating income in the first quarter was $31.4 million resulting in an operating margins of 9.4%, the highest level we have seen in over five years.

Non-GAAP operating income excludes share base compensation expenses of $5.6 million, non-GAAP operating margin improved 160 basis points from a years ago primarily due to higher margin and leverage to operating expenses with growing revenue.

Non-GAAP first quarter results exclude the impact of $1.7 million realized foreign exchange gain due to continuing strengthening of the Thai baht during the first quarter. While the Thai baht weaken earlier in the quarter it has since stabilize to level in line with the first quarter.

Taxes in the quarter were net expense of $1.9 million and our normalized effective tax rate was 6.6%, which was within our expected range of 6% to 7%. Non GAAP net income was $29.7 million in the first quarter or $0.80 per diluted share compared to $16.2 million or $0.45 per diluted share in Q1 of fiscal year 2016.

On a GAAP basis which include share based compensation expenses and amortization of debt issuing cost, net income for the first quarter was $22.8 million or $0.61 per diluted share compared to $1.6 million or $0.04 per diluted share in the first quarter of fiscal year 2016.

Moving on to the balance sheet and cash flow statement, we ended the first quarter with a cash and investment balance of approximately $256.9 million, compared to $284.5 million at the end of the fourth quarter of fiscal 2015.

Cash balances included the impact of $13.5 million in cash consideration for the acquisitions of Exception EMS, $14.0 million in CapEx for machine and equipment and $4.9 million for long term loan repayment. Additionally $13.5 million in proceed from loan draw down was to support Chonburi construction payment.

For fiscal year 2017 we continue to expect CapEx to be in the range of $60 million to $70 million, with approximately $30 million to $40 million of that in maintenance CapEx and the remainder going towards the final construction and equipment for our manufacturing facility in Chonburi, Thailand.

I would now like to discuss guidance for the second quarter, during which we expect to see our momentum continue. We anticipate revenue in the second quarter to be between $332 million and $336 million, representing growth of 42% to 44%.

This guidance includes an anticipated revenue contribution from Exception EMS of approximately $5 million which will be reported as non-optical revenue.

While on an organic basis this will represent a small sequential revenue increase from the first quarter, if we adjust for additional week in Q1 our guidance represent a sequential increase of $20 million to $24 million, excluding the contribution from Exception and an increase of $24 million to $28 million including Exception revenue in both Q1 and Q2.

We anticipate non-GAAP net income per share in the second quarter to be in the range of $0.78 to $0.87, and GAAP net income per share of $0.65 to $0.67, based on approximately $37.8 million fully diluted shares outstanding. The impact from Exception on both GAAP and non-GAAP Earnings per share is expected to be immaterial.

In summary we’re off to a good start in fiscal 2017 with another quarter of strong financial performance. We expect this momentum will continue in the second quarter. We also look forward to further scaling our business in the second half of the year and beyond as our expanded capacity serves growing industry demand.

Operator we will now like to open the call for questions..

Thank you [Operator Instructions] Our first question comes from the line of Troy Jensen of Piper Jaffray. Your line is now open..

Hey congrats on a really good quarter Tom..

Thank you..

So Tom or TS, I got a question for you, I guess there’s been a lot of chatter recently about three sensing [ph] and it looks like [indiscernible] are B2B leaders in that category and there’s a fair chance that we may get some three 3D sensing acquisitions in some high volume cellphones for next year.

So I'm just curious given that Light and Two6 [ph] seem to be best positioned for 3D sensing would that be something that you guys would manufacture for factors for those two?.

Hey, Troy, this is TS. If you look at my understanding of 3D sensing it's pretty much unique to have the PCBA capability and to know how to handle optical components. You also now must have the capability of the subcontrol system, know how to handle subcontrol system. All these are within Fabrinet's core competencies.

So obviously in the past we talked about perpetual computing, we even helped the automotive guys to do laser. So if a customer come to us, fit into our margin profile obviously this is what something we are best at. So obviously will be opportunity for us..

All right, perfect.

Do you have any sense on the amount of dollar content that you guys would touch something like this? And to my knowledge this is like a $2 to $3 part that will gone in the cell phones and historically you guys, do a high volume - low volume high specialty where it seems to be high volume or specialty, maybe not specialty but just thoughts on the opportunity here for you..

Troy, this is consumer electronic, they come and go and like winning, by the time you know they might be gone or they might be ramp up suddenly. So honestly it’s hard to me to say at this moment. Now obviously we have a sensor segment, we report that during the earning call. So, you can continue to monitor that..

Okay. All right, fair, and last question for you TS. I think you talked you tend [ph] to normalize the numbers here to get to a sequential increase in revenues and looks like it's about 8% roughly.

Can you just give us a sense for whether or not you think both Datacom and Telco kind of go roughly at their level or is one stronger than the other in the December quarter?.

I think all along we’ve been saying that last four, five quarter now. Datacom is pretty strong, continue to enjoy year-on-year nice growth and we said telecom is accelerating. And right now we really see telecom is accelerating right now. So they are starting [ph] to impact.

We will see growth in both segment but I think telecom will be growing faster from the way we - our vantage point. I don't know Tom you want to add anything..

No, I agree with, I think telecom - and we see in past there are lines with that too, telecom will continue to grow faster..

Thank you..

Okay, [indiscernible]..

Thank you. Bye..

Thank you. [Operator Instructions] Our next question comes from Patrick Newton from Stifel. Your line is now open..

Good afternoon, Tom and TS, thank you for taking my question. Just a two part of question on your MPI facility. You talked about being on track to $10 million in revenue in the December quarter.

Is that still the right level of breakeven? And then on the gross margin profile of the new product introduction facility given that it was a drag on this quarter, can you help us understand at what point the MPI gross margin actually becomes create to the market profile?.

So, let say in the 10-K and Q we always say about Fabrinet report only one segment. So Troy we would like to say that whether the UK or is the Santa Clara facility, it’s like building seven or building eight next door to our Pinehurst facility.

So in the past I was asked about Fabrinet West, so we give some guidance and we are still approaching our guidance. Okay, $10 million by December, at that level we touch breakeven at gross margin level and then the quarter follow or so we touch breakeven at [indiscernible]. So that’s still the plan, we are marching towards the plan.

Again UK, the same thing we are not going to breakdown UK but you have to judge revenue based on the total worldwide operation will be further tell 12.2% gross margin that include everybody. So you have to view that - again a lot of product might transfer from Santa Clara or UK to Chonburi, our new facility.

So they come amid individual bigger entity P&L cloudy.

Is that like make sense?.

Yes, that makes sense. I guess just shifting to capacity in Chonburi, could you talk at all about that the number of phase or square footage you currently have commitment for.

And then you talked about initial revenue in the March quarter, but given the timing of ramps and qualification periods, when should we really start to see Chonburi kicking from a revenue tier 1 prospective?.

This is Tom. Last time when we talked I think that we said that we are that we - for spoken for capacity was about 10% directly and that number has now gone up to 25%, a little bit better than 25%. And that - so not got the interest [indiscernible] specific with days and [indiscernible] but in total it's about 25% are spoken for.

That helps you?.

Yes, that’s very helpful.

I guess if we look at that incremental uptick, is that being driven more by your optical business or the non-optical business?.

This is driven by well by optical business and non-optical business and that we continue to grow in both areas but the pace of company is growing about the same pace..

Okay. And just last one is a clarification TS you talked about some product reclassification from datacom to telecom and then we can get that information on the website. But can you help us understand what products were reclassified..

Yeah in past we have the category called networking line. I mean those are customer assemble photonics integrator circ. And we use certain ratio to split within telecom and datacom. And also we saw some of the customer change - the same trend even can be either telecom or datacom depending on the application.

So then more information about that to add and why we did that is we go back and reclassify the same transceiver shipment to the same customer in the same manner so we can compare.

But if you look at 30,000 foot level our storage took hold, in other words datacom has been pretty strong in the last five, six quarters based on the year-on-year and telecom is late into the party and they are accelerating. So those are the basically the bottom line message and it's still intact..

Understand the messaging but was there a certain product line like CFP, CFP2, 4 something like that that you've rolled out of the datacom or into telecom or anything that was more pervasive?.

Not exactly. In the past certain customers we have to get the application. So now for example one of the customer at a long haul is actually telecom. In the past we didn't know the ownership to long haul. So we can't put in datacom. So we do that reclassification obviously.

And then if I reclassify today I have to go back to restate the trend and that's what we are doing today..

Great, thank you for taking my questions. Good luck..

Thank you Patrick..

Thank you. And I'm showing no further questions at this time. I'd like to hand the call over to Tom Mitchell for any closing remarks..

We're going to thank you for joining our call. And we look forward to speaking to you again. Good night..

Ladies and gentlemen thank you for participating in today's conference. That does conclude today's program. You may all disconnect. Everyone have a great day..